No. of Recommendations: 0
Scenario question - should he retire from the military now, or stay on active duty for another 3 years?

If he stays in another 3 years, his retirement pay would increase about $4000 / year. That payment will be indexed for inflation, say a nominal 2%. The SSA life expectancy calculator thinks he will live for 30 years after retirement.

What's the present value of that income stream? Or maybe a better question is, what lump sum would I have to have that would generate that annuity?

I think it's not necessary to consider inflation (loss of earnings power), because he would be applying that inflation to both this stream, and to the pot of money he's comparing this stream to, which is the extra earnings from getting out now and getting a job, thereby increasing his overall income (job + retirement pay).

TIA for help with that calculation (or pointing me to a calculator that incorporates all those variables). Tails
Print the post Back To Top
No. of Recommendations: 3
I am not sure that NPV is the only calculation you would need to do. If you do a search for "NPV calculator" on google, you will find dozens that will help you run the numbers.

That being said, should you not also have to consider the difference between what his current pay is and the pay of the civilian job he would be getting three years early? Would three more years on the civilian job also yield larger pension or more retirement income?

IMO, unless $4000 a year is going to make or break retirement, I think I might focus more on quality of life issues. Having been on active duty, my decision to stay or not stay another three years might have little to do with pay opportunities and likely would have had more do with with family and desired lifestyle.
Print the post Back To Top
No. of Recommendations: 1
There are other factors needed in order to come up with an estimate, mainly the discount rate you'd want to apply. You can do an IRR, but you'd need a starting cost to figure it. You can use a spreadsheet and the NPV function to determine a break-even point, by assuming various initial costs. For instance, here's a table of approximate PVs with associated discount rates:

Rate PV
3% 85,000
4% 72,500
5% 62,500
6% 54,250
7% 47,350

As you can see, the PV varies greatly with the discount rate you use.
Print the post Back To Top
No. of Recommendations: 2
If he's thinking of leaving the military, I'm guessing he's around 45. A life annuity for a 45-year old with a $4,000/year inflation-adjusted benefit would cost about $110,000 from an insurance company.

intercst
Print the post Back To Top
No. of Recommendations: 2
To answer your question, the PV calc is a little more difficult than just inputting the current annual payments, a discount rate and life expectancy years. This is because the military pension, unlike private pensions, is indexed for inflation, so the PMT part of the calc will be growing most of the future years. Hence, you'll have to use the Excel XIRR function or the uneven cash flow function on a financial calculator.

But unless you have some plan to sell part of his retirement annuity to a structure settlement outfit, the PV will be intersting but of not much value to you. The real economic value will come from future cash flow projections, which will be dependent on your years to retirement, total savings available at retirement, expected average annual rate of return, future household income requirement, and the like. This is doable, but you'll need to be conversant in the use of Excel.

This exercise is similar to the decision of when to begin SS.

And yes, you can ignore inflation for purposes of this calc, as inflation effects both options equally.

BruceM
Print the post Back To Top
No. of Recommendations: 0
If he's thinking of leaving the military, I'm guessing he's around 45. A life annuity for a 45-year old with a $4,000/year inflation-adjusted benefit would cost about $110,000 from an insurance company.

If he leaves at 27 years, he'll be 49, if he stays til 30 years, he'd be 52. Does that change the cost much?
Print the post Back To Top
No. of Recommendations: 0
That being said, should you not also have to consider the difference between what his current pay is and the pay of the civilian job he would be getting three years early? Would three more years on the civilian job also yield larger pension or more retirement income?

Yes, exactly. That's why I mentioned the (job + retirement pay).

IMO, unless $4000 a year is going to make or break retirement, I think I might focus more on quality of life issues. Having been on active duty, my decision to stay or not stay another three years might have little to do with pay opportunities and likely would have had more do with with family and desired lifestyle.

Absolutely, and he's looking at all that too, but assuming those all are equal, I'm trying to help him with the math.

Tails
Print the post Back To Top
No. of Recommendations: 0
There are other factors needed in order to come up with an estimate, mainly the discount rate you'd want to apply. You can do an IRR, but you'd need a starting cost to figure it. You can use a spreadsheet and the NPV function to determine a break-even point, by assuming various initial costs. For instance, here's a table of approximate PVs with associated discount rates:

I don't understand how a discount rate fits in. What am I discounting?

For your chart values, I'm guessing there is a 0% discount rate amount?

Tails
Print the post Back To Top
No. of Recommendations: 1
Isn't the difference between retiring at 20 or 30 years from the military - 1/2 salary or full salary ? So for staying 3 years, he doubles his retirement income for the rest of his life ? If he makes it to 52, he's expected to live to 79(according to a quick look at the SS tables).

This is quick and dirty but leaving out inflation - 2*the 100% difference in retirement pay would be tough to justify leaving on the table and if he is married, throwing in any survivor benefit - wow.
Print the post Back To Top
No. of Recommendations: 1
DragonTales asks,

If he's thinking of leaving the military, I'm guessing he's around 45. A life annuity for a 45-year old with a $4,000/year inflation-adjusted benefit would cost about $110,000 from an insurance company.

If he leaves at 27 years, he'll be 49, if he stays til 30 years, he'd be 52. Does that change the cost much?

</snip>


A bit. An annuity costs less if you buy it when you're older. It's probably worth about $100,000 at age 52 and $105,000 at age 49.

intercst
Print the post Back To Top
No. of Recommendations: 1
Isn't the difference between retiring at 20 or 30 years from the military - 1/2 salary or full salary ? So for staying 3 years, he doubles his retirement income for the rest of his life ?

No, it's graduated, monthly, between 20 & 30 years, and between 50% & 75% of base pay, respectively. Goes up by ~.2083% per month (2.5% per year). So, if someone stayed in for 24 years and 4 months, their retirement multiplier would be 50% + 52/120*25% or 60.833%. But retirement pay is based on base pay, not total pay. Little gotcha that's not well known.

Pay breakdown (as a percentage of what you see in your paycheck):
~70%  Base Pay
~30% Basic Allowance for Housing (BAH)

So if you retire at 20 years of service, your retirement is really about 35% of your pay(check), and that goes up to 52.5% if one serves 30 years.

If he makes it to 52, he's expected to live to 79(according to a quick look at the SS tables).

Regarding the life expectancy, I used this SSA site: http://www.ssa.gov/OACT/population/longevity.html

When I insert an age to make it say the person is 52, it shows that they should live 30 years.

Tails
Print the post Back To Top
No. of Recommendations: 0
When I insert an age to make it say the person is 52, it shows that they should live 30 years.

Okay, whatever. I was trying to be helpful. But ya know the life expectancy is a probability - there's no "should" there ;)
Print the post Back To Top
No. of Recommendations: 1
But ya know the life expectancy is a probability - there's no "should" there

Right. I couldn't (still can't) tell why the disparity between your SSA figure and mine, since it seemed like we had looked at the same data source.

But you are absolutely correct in there's no "should". Better choice of words might have been "When I insert an age to make it say the person is 52, it shows that the median life expectancy is an additional 30 years."
Print the post Back To Top
No. of Recommendations: 0
So if you retire at 20 years of service, your retirement is really about 35% of your pay(check), and that goes up to 52.5% if one serves 30 years.

Actually, its less than that in net household income, as the 'allowances' one receives while on active duty, including housing, variable housing, subsistance and clothing....these 'allowances' are not subject to state, federal or employment tax.

BruceM
Print the post Back To Top